Last year was a tough one for investors in retail REITs as it was the worst-performing REIT sector. Sluggish retail sales as more customers do their shopping online is forcing many brick-and-mortar retailers to close stores. The shrinking footprint of many retailers impacted occupancy at retail-focused REITs, which cut into the income they generate from their properties.
Unfortunately, 2020 isn't starting much better for retailers or the REITs that lease space to the sector. Just this week, Pier 1 Imports (NYSE: PIR) announced plans to close another 450 of its stores -- nearly half its total locations -- as well as some of its distribution centers as it tries to stave off bankruptcy. Meanwhile, Macy's (NYSE: M) will reportedly close at least 28 more of its namesake locations and one Bloomingdale's store as it continues to shrink its retail footprint.
That's likely just the beginning, given the weak financial condition of many retailers. As much as 30% of the current retail space might be unnecessary, in the view of the investment bank B. Riley Financial.
Here's a look at how these store closings could impact REIT investors.
REIT impact: Short-term pain for long-term gain?
Pier 1 Imports leases space from several REITs and is one of the biggest tenants of shopping center REITs SITE Centers (NYSE: SITC) and Kimco Realty (NYSE: KIM) and industrial REIT First Industrial Realty Trust (NYSE: FR). Because of that, those three REITs could feel the brunt of the company's move to slash its store count and distribution footprint.
SITE Centers, for example, had 25 units rented out to Pier 1 Imports as of the end of the third quarter, which made it a top 25 tenant. Overall, the company contributed 0.9% of the REIT's base rent, so a reduction in Pier 1's store count will have an impact on its occupancy and income. The Macy's store closings could also affect the company since it leased four locations that produced 0.6% of its rental income.
That said, SITE Centers has done a good job backfilling vacancies caused by store closings by leasing the space to new tenants, often at higher rates. It's also investing money in redeveloping several of its locations to attract different tenants like movie theaters, grocery stores, and fitness centers.
Kimco Realty, meanwhile, leased 30 of its units to Pier 1 as of the end of the third quarter, making it a top 50 tenant. Those locations supplied about 0.5% of its total rent. Because of that, the store closing will have some near-term impact on occupancy and income.
Like SITE Centers, however, Kimco has been working to offset the impact of store closings by redeveloping its properties to attract new retail tenants as well as build other amenities such as multifamily units and office space.
Pier 1 is also a notable tenant of First Industrial. It's the company's 13th largest customer at 1.1% of its gross leasable space. Because of that, if the retailer decides to close some of the distribution locations it leases from First Industrial, it would have a notable near-term impact on that company's occupancy and cash flow.
However, industrial REITs have been one of the beneficiaries of the growth in e-commerce, which is one reason why that sector produced the best total return among REITs last year. Because of that, First Industrial could be able to quickly lease the distribution centers that Pier 1 vacates to new tenants.
It looks like it will be another tough year for retail REITs in 2020
Retailers are continuing to shrink their footprints this year, led by the recent decisions at Pier 1 and Macy's. More store closings are likely on the way, given the weakened state most retailers find themselves in as they try to adjust to changing consumer shopping patterns. That's negatively impacting REITs focused on owning retail centers, which are seeing their occupancy and income decline.
Many of these REITs, however, are implementing plans to redevelop their locations. That's allowing them to attract new retail tenants as well as diversify away from the sector. While many will continue to experience some near-term impact as more stores close, their redevelopment investments should help soften the blow over the long term.